Co-Authored by Phil Wagner, CFA®, Director of Investment Advisory Services, Bryn Mawr Capital Management, and Garrett Spangler, J.D., LL.M., Wealth Strategist, Bryn Mawr Capital Management
Most investors are familiar with the phrase “asset allocation,” creating a mix of stocks, bonds, cash, and possibly other investments, to achieve a specific return and risk profile. Defining and adhering to an asset allocation can be a powerful way to ensure your financial resources are aligned to achieve your financial and life objectives.
“Asset location,” may be less widely discussed, but it too can help organize your resources in pursuit of important life-wealth goals. Asset location is the placement or ownership of financial assets in different account types or structures that help maximize their return potential.
For instance, if you have an investment management account with an investment advisor and a second account that is an Individual Retirement Account (“IRA”), assets in an IRA are not subject to income tax on interest, dividends or gains; the only tax due will be when you withdraw funds from the IRA.[1] When you take distributions, they are taxed as ordinary income, typically at a higher rate than dividend income or capital gains. Your investment management account does not have the tax deferral benefits of an IRA and taxes will be due along the way on dividends, interest income and gains.
Let’s assume your asset allocation calls for a mix of stocks and bonds. The return to a stock or a fund of stocks typically comes from gains and dividends – both taxed more favorably than interest income. The return to bonds typically comes mostly from interest income. In this example, asset allocation and asset location combined suggest it’s strategic to own your bonds in the IRA where their heavily taxed interest income is shielded from taxes while owning your stocks with their growth potential in your investment management account.
Let’s add another account type into the mix: a Roth IRA. Under current tax law, the income and growth of assets held in a Roth AND distributions from a Roth are NOT subject to tax of any kind. If your asset allocation includes high-growth stocks, your Roth might be their proper location.
Asset location should also be considered in estate planning strategies. If your net worth is high enough that you might have to pay Federal estate taxes upon your death, it could be argued that continuing to grow your wealth is just creating a bigger tax bill.
Specialized trust structures such as a Grantor Retained Annuity Trust can be used to shift the benefit of growth in an asset from the owner who faces an estate tax to younger family members who might derive benefit over a longer horizon. Other types of grantor trusts permit the donor to pay the income taxes generated by the trust investments designed to benefit family members. Here the donor can pay the income taxes to slow the growth of their estate and permit heirs to benefit from the growth of the assets tax-free.
Another option is a charitable trust to sell a concentrated stock position tax-free, incurring capital gains taxes over the years with the remainder (at least 10%) passing to charity, for which the donor also receives a tax deduction.
Asset location can be a powerful way to enhance life-wealth objectives by helping your resources work harder or by directing the benefit of planning to help family members. However, it can lie at the intersection of investment management and estate and tax planning and can be complicated. Working with a team of specialist advisors can help you unpack the benefits of asset location.
[1] Generally, an annual distribution must be taken from an IRA when you reach age 73; distributions taken before you’re 59½ are subject to a 10% penalty in addition to taxes on income. This article should not be deemed tax advice, consult a tax advisor.
About the Authors – Phil Wagner, CFA® and Garrett C. Spangler, J.D., LL.M.
Phil Wagner serves as Director of Investment Advisory Services for Bryn Mawr Capital Management. He transitioned from Bryn Mawr Trust in 2023. In this role, he leads all the firm’s investment advisors and is responsible for directing the portfolio management process, identifying relevant trends, and driving continuous improvement in the delivery of investment services. Phil completed his undergraduate studies at the University of Richmond, where he received a bachelor’s degree in economics. He earned the Chartered Financial Analyst® designation in 1994, and he is a member of the CFA Institute and the CFA Society of Philadelphia.
Garrett Spangler is a Senior Wealth Strategist who also leads the Planning Committee. In his role, Garrett works with clients on a variety of planning areas such as trust and estate planning, wealth preservation, income taxes, and liability exposure. Before joining Bryn Mawr Capital Management, Garrett practiced trust and estate, tax, and corporate law with law firms in Philadelphia and the surrounding suburbs. Garrett earned his law degree (J.D.) and Master’s in Taxation (LL.M.) from Temple University’s Beasley School of Law and his bachelor’s degree from Penn State University’s Smeal College of Business.
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